Industry Update - Oil and Gas Sector

Diesel price hike: A much awaited move

The government, in an unprecedented move, announced a diesel price increase of 14 per cent or Rs. 5/litre and capped the supply of LPG to 6 cylinders per household in a year. Price of other regulated products like petrol and Kerosene was left unchanged but government reduced the excise duty on Petrol by Rs. 5.3/litre from Rs. 14.78/litre earlier in order to reduce losses of about Rs. 6/litre on petrol sales. This decision was in line with a recommendation of the parliamentary standing committee on petroleum and natural gas. CARE Research believes that this has been one of the boldest policy actions by the government towards solving the problem of burgeoning under-recoveries plaguing the OMCs and the resulting rise in fiscal deficit for the country. Price hike and capping of LPG cylinders is expected to together reduce the petroleum underrecoveries/losses by about Rs. 200 billion in FY 2013, providing partial breather to government finances as well as to the Oil Marketing Companies (OMCs).

FY 2013 under-recoveries at record highs

September 17, 2012

India has been subsidizing the prices of diesel, cooking gas and kerosene which has put a severe strain on public finances. Diesel, LPG and kerosene prices were last hiked in June2011. Sharp rise in crude oil prices with no corresponding policy action has substantially raised the under-recovery on sales of these products. Losses on these products stood at INR17.1/litre on Diesel, INR347/cylinder on LPG and INR32.7/litre on Kerosene before the price hike. The OMCs have already reported INR478bn of under-recoveries in 1Q FY 2013, which is the highest quarterly loss reported ever. Depreciation in the rupee since the beginning of FY 2013 has just exacerbated the problem. FY 2013 under-recoveries earlier estimated to be around Rs. 1,850 billion is now expected to come down 1,650 billion following the hike but still up 19 per cent YoY and its highest ever.

Product wise fortnight under-recovery

Rs. Litre Diesel Kerosene LPG 1 June12 12.5 30.5 396 15 June12 10.2 30.5 396.0 1 July12 9.0 27.0 319.0 16 July12 10.0 27.2 319.0 1 Aug12 12.1 28.5 231.0 16 Aug12 13.8 28.5 231.0 1 Sept12 17.1 32.7 347.0

Source: PPAC, CARE Research

...putting a strain on OMCs financials

Losses arising from sale of key petroleum products are typically shared by the government, upstream oil companies viz. ONGC, OIL India, GAIL and the OMCs (IOCL, BPCL and HPCL) according to a proportion determined by the government. OMCs earnings were strained in FY12 due to weak refining environment, huge inventory and foreign exchange losses as well rise in interest cost. Interest cost for the OMCs had risen

Industry Update Oil & Gas Sector

due to delay in cash subsidy payout by the government and the resultant rise in working capital loans. Thus, while OMCs have borne around Rs. 56 billion on an average during FY 2007-11, they were spared from sharing any under-recoveries in FY 2012. The total FY 2012 petroleum product losses of Rs. 1,385 billion were instead shared between the government and the upstream companies in the proportion of 60%/40%. OMCs financial position further worsened in 1Q FY 2013 with cumulative losses of Rs. 405 billion as underrecoveries had risen to Rs. 478 billion and absence of subsidy payout from the government. Their debt levels have shot up by 16 40 per cent in FY 2012 YoY. Such a financial stress has also led to severe delays in OMCs capital projects.

OMCs quarterly profitability

Source: Company, CARE Research

Diesel Price hike an inevitable option

This is the first diesel price hike announced since June 25, 2011 despite sharp rise in crude oil and international diesel prices and the weakening of the rupee. The Oil Marketing companies (OMCs) had been losing Rs. 12.1/litre on an average for the last 3 months on diesel with losses rising to a massive Rs. 17.1/litre last fortnight. Out of the total hike of Rs. 5/litre, Rs 3.50 would go towards reducing this deficit while Rs 1.50 is on account of rise in excise duty. The origins of the diesel price hike goes back to February, 2010 when Mr. Kirit S. Parikh chaired a committee that recommended fuel price hike to solve the problem of rising under-recoveries. Mr. Parikh has served as Senior Economic Advisor to United Nations Development Programme from October 1997 to September 1998 and has also been a member of the Economic Advisory Council (EAC) of the Prime Minister of India. He had recently stated while rise in diesel price hike would push up inflation, but not to increase fuel prices would also not be helpful. This is basically because as under recoveries go up, the fiscal deficit goes up which will push up the money supply creating inflationary pressure. Diesel currently forms 44 per cent of total petroleum product consumption but contributed 61 per cent to total petroleum under-recoveries in 1Q FY13 up from 59 per cent in FY 2012. Diesel under-recoveries had

Diesel price hike: A much awaited move

Industry Update Oil & Gas Sector

risen by a massive 134 per cent YoY in FY 2012 due to rise in international oil prices by 26 per cent YoY and rupee depreciation. This situation was made worse due to significant difference in diesel prices as compared to other alternate fuels like petrol. The difference between price of petrol and diesel had at one point in time crossed Rs. 30/litre making diesel cars more lucrative for buyers. The proportion of diesel cars in total car sales had increased to 43 per cent in FY 2012 vis--vis 20 per cent in FY 2005. Private diesel cars form around 6-7 per cent of total diesel consumption.

Difference between Petrol and Diesel price

Source: PPAC, CARE Research

Petroleum under-recoveries

Source: Company, CARE Research

Industry Update Oil & Gas Sector

Petroleum under-recovery burden sharing

Source: Company, CARE Research

Capping of cylinders implementation is key

Government has restricted the supply of subsidized LPG cylinders to each consumer to 6 cylinders per annum i.e. 3 cylinders for the remaining part of the financial year. Any number of cylinders over and above the cap of 6 cylinders will be available at market rate (currently at Rs 746/cylinder in Delhi). Even though the above move is expected to reduce the under-recovery by about Rs. 53 billion for the rest of FY 2013, implementation and enforcement of the move is critical to achieve the desired savings. The under-recovery on LPG during FY 2013 even after this measure is estimated to be above Rs. 320 billion.

Uncertainty still prevalent but a step in the right direction

Even after the hike, under-recoveries are still expected to be around Rs. 1650 billion. Crude oil prices have also remained above $110/barrel for most part of this year. Any further rise in oil prices or weakening of rupee can negate the positive impact of this move. However this step was much awaited and gives a clear signal of focus on policy reforms and containing the rising fiscal deficit problem of the country. Even though the price hike could fuel inflation in the short term, but in the long term, the move would help ease the governments subsidy burden and encourage more optimum use of the regulated products.

Diesel price hike: A much awaited move

Industry Update Oil & Gas Sector

Contact:
Revati Kasture Head - CARE Research revati.kasture@careratings.com
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